5 business lessons from Costco

How Costco Became the Anti-Wal-Mart explores the interesting formula for success that CEO Jim Sinegal has implemented at the nation’s fifth-largest retailer: Sell a limited number of items, keep costs down, rely on high volume, pay workers well, have customers buy memberships and aim for upscale shoppers, especially small-business owners. In addition, don’t advertise – that saves 2 percent a year in costs.

5 lessons revealed in the article:

1. Take care of your employees.

Costco’s average pay, for example, is $17 an hour, 42 percent higher than its fiercest rival, Sam’s Club. And Costco’s health plan makes those at many other retailers look Scroogish. One analyst, Bill Dreher of Deutsche Bank, complained last year that at Costco “it’s better to be an employee or a customer than a shareholder.”

Sinegal begs to differ. He rejects Wall Street’s assumption that to succeed in discount retailing, companies must pay poorly and skimp on benefits, or must ratchet up prices to meet Wall Street’s profit demands.

Good wages and benefits are why Costco has extremely low rates of turnover and theft by employees, he said. And Costco’s customers, who are more affluent than other warehouse store shoppers, stay loyal because they like that low prices do not come at the workers’ expense. “This is not altruistic,” he said. “This is good business.”

2. Keep prices low.

He also dismisses calls to increase Costco’s product markups. Mr. Sinegal, who has been in the retailing business for more than a half-century, said that heeding Wall Street’s advice to raise some prices would bring Costco’s downfall…

At Costco, one of Mr. Sinegal’s cardinal rules is that no branded item can be marked up by more than 14 percent, and no private-label item by more than 15 percent. In contrast, supermarkets generally mark up merchandise by 25 percent, and department stores by 50 percent or more.

“They could probably get more money for a lot of items they sell,” said Ed Weller, a retailing analyst at ThinkEquity.

But Mr. Sinegal warned that if Costco increased markups to 16 or 18 percent, the company might slip down a dangerous slope and lose discipline in minimizing costs and prices.

Mr. Sinegal, whose father was a coal miner and steelworker, gave a simple explanation. “On Wall Street, they’re in the business of making money between now and next Thursday,” he said. “I don’t say that with any bitterness, but we can’t take that view. We want to build a company that will still be here 50 and 60 years from now.”

3. Pay attention to the customer, not the competition.

But it is the customer, more than the competition, that keeps Mr. Sinegal’s attention. “We’re very good merchants, and we offer value,” he said. “The traditional retailer will say: ‘I’m selling this for $10. I wonder whether I can get $10.50 or $11.’ We say: ‘We’re selling it for $9. How do we get it down to $8?’ We understand that our members don’t come and shop with us because of the fancy window displays or the Santa Claus or the piano player. They come and shop with us because we offer great values.”

4. Focus on a few core options.

A typical Costco store stocks 4,000 types of items, including perhaps just four toothpaste brands, while a Wal-Mart typically stocks more than 100,000 types of items and may carry 60 sizes and brands of toothpastes. Narrowing the number of options increases the sales volume of each, allowing Costco to squeeze deeper and deeper bulk discounts from suppliers.

5. Use surprise to create excitement.

Mr. Sinegal, who is 69 but looks a decade younger, also delights in not tilting Costco too far into cheap merchandise, even at his warehouse stores. He loves the idea of the “treasure hunt” – occasional, temporary specials on exotic cheeses, Coach bags, plasma screen televisions, Waterford crystal, French wine and $5,000 necklaces – scattered among staples like toilet paper by the case and institutional-size jars of mayonnaise.

I have never been in a Costco. Wal-mart rules the area that I live in, infact I’ve never seen one anywhere near where I live. I’d love to see one though. Everytime I go into wal-mart I always have to buy something and I usually don’t need it.

ML

on 11 Jul 07

Everytime I go into wal-mart I always have to buy something and I usually don’t need it.

“On Wall Street, they’re in the business of making money between now and next Thursday,” he said. “I don’t say that with any bitterness, but we can’t take that view. We want to build a company that will still be here 50 and 60 years from now.”

Great view on the business.

David Spotts

on 11 Jul 07

What is the end game for a company like Costco or even Sam’s? How low is too low? When I walk through these stores I always think some kid in China or Taiwan is getting hosed when you can buy stuff this cheap. I actually like Costco, but even still it seems like there is a slippery slope to cost cutting.

Treating your employees well fosters a totally different store culture and environment for the customers. I don’t understand why most retailers can’t understand this is basic good business. If your employees are happy, they will make your customers happy.

Too many places have disgruntled employees leaving a bad taste in my mouth, I’d just as soon shop online.

David

on 11 Jul 07

Why are so many people against advertising? Costco seems to eschew advertising as an unnecessary expense, and I’ve heard the guys at 37signals say triumphantly that they’ve never advertised. Isn’t that foolish?

Advertising makes sense if you get back a single dollar more than you paid for it (considering all economic costs). So, unless Costco has tried every possible route and recoup advertising costs, it’s foolish to write off the idea as costing 2% a year when it may in fact be profitable. I’d be curious to hear the 37signals perspective as well, if you don’t mind. :-)

If every company did what the analysts said, then every company would basically be average. It’s exactly because Costco rejects the typical way of doing things that they’ve become a leader in the retail world.

Igor

on 11 Jul 07

I used to shop at Costco all the time until my membership expired; I found the prices and service pretty comparable to Sam’s Club. Pretty amazing that Sam’s takes that extra 42% to give to shareholders. The store operates on the usual discount skeleton crew of greeters, cashiers, and receipt checkers. There are sometimes butchers on hand as well and stockers. This keeps their total labor costs down without skimping on hourly pay.

For the last 3 months I have not shopped at Wal-Mart and do not plan to ever go back. The only drawback is that I sometimes like to go shopping late at night (a habit left over from college) and nothing around here is open after 10 PM except a few grocery stores until 12 and some 24 hour pharmacies, and of course Wal-Mart.

There are two kind of successful people from humble roots imo, one who are greedy and abuse workers after getting on top and one who have sympathy and compassion, I think this is the only dichotomy between Wal-Mart and Costco.

I usually shop at Whole Foods and Central Market now and recommend the same to my friends.

James

on 11 Jul 07

I saw a profile of Jim Sinegal on ABC News last year. This guy’s corporate office is very spartan, he works off of a folding table and chairs like the kind you’d find in a church basement. He doesn’t employ a secretary and instead takes his own phone calls and sends his own faxes. He even wears a costco name badge to work everyday with simply the name “Jim” and “Associate” on the front. The anti-CEO, eh?

It’s great to hear about companies holding to their principles and maximizing long term shareholder value. I know several people who have worked for Costco and loved it, and several others who wanted to go work for Costco. I don’t often hear people say that about other companies.

B

on 11 Jul 07

When I walk through these stores I always think some kid in China or Taiwan is getting hosed when you can buy stuff this cheap.

Actually, you should be smiling. This kid has a job instead of sifting through garbage in the dumps to try to find scraps.

JF

on 11 Jul 07

I’ve heard the guys at 37signals say triumphantly that they’ve never advertised.

We’ve advertised here and there, but all things considered the number would round down to zero. We’re currently advertising Highrise on The Deck, for example.

I don’t have anything against advertising, but we’ve found better ways to get our message out than spending money on advertisements.

I like what Amazon.com does: Instead of advertising they give their ad budget back to their customers in the form of free shipping.

I buy quite a few things from Costco, it isn’t just for people with huge families, if you shop smart you can get stuff for two people from Costco too.

I just bought a TV and in the past have bought many other electronics items because of their amazing return policy. I also bought my Lexus through the Costco Auto Program. I buy the gasoline that goes into that Lexus from Costco too.

v

on 11 Jul 07

“Actually, you should be smiling. This kid has a job instead of sifting through garbage in the dumps to try to find scraps.”

You mean sifting through barely-used, mercury-filled electronics that people “over here” sent “over there?” Or you mean sifting through trash for food in areas that used to be farmland and local market space?

AY

on 11 Jul 07

When Sinegal retires/dies, Costco is screwed.

Samo

on 11 Jul 07

What does that tell us?

Yes, a certain Bill Dreher is an idiot.

indi

on 11 Jul 07

The only advertising from Costco I’ve seen is their regular email for Costco online. I always give it a quick look and often click a link to take me to the site. It’s great that if you buy online and need to return you can take it to the local Costco, even though many (if not most) items available online aren’t carried in the store.

ML

BRM

Apple? They’ve done such a good job of internalizing their philosophies and messages I imagine they would continue forward without Jobs.

Jay

on 12 Jul 07

The CostCo in our area is great. You can always count on good prices and great products.

One HUGE benefit they don’t mention in the article is the return policy. It is the best of any store I have ever been to. They will pretty much allow the return of anything at anytime. As a result – they make sure the products they offer are top quality as well.

Great information…I should have applied to Costco for my summer job!! I didn’t know their pay was that high :( Mr. Sinegal has definitely mastered the art of business…he was the first to create the pay for a monthly subscription to shop here model, was he not?

-Gregg

Mark J.

on 12 Jul 07

To most Americans it might come as a surprise that Walmart surrendered the german market with a huge deficit. The main reason was a different market structure and very different customer expectations that are shaped by a single competitor: Aldi. Aldi has very similar formular to Costco:
- mostly the lowest prices on the market
- few products (app. 500)
- rigid quality control
- mostly own brands
- decent wages
- one single form of ads: ugly but informative weekly one-page-ads in lokal and regional papers
- functional (read: ugly) looking shops with pallets of single products (that is: no stock at all)
- few personal, very long queues at times

That made Germany a Walmart-free-zone. People are used to high-quality products for a low price accepting low service standards.

Mohan George

on 12 Jul 07

Most retailers/service providers boldly say “We will gladly give you a refund if you are dissatisfied with your merchandise/service/membership subject to blah blah blah”

But does anyone say: We will refund your membership fee in full at any time if you are dissatisfied.

Congratulations to Jim Sinegal. He created Costco his way following his rules, to fulfill his vision, to achieve his form of success on his terms. And he did it. He also has the courage and character to know that the Wall Street people (where greed at any cost is the law) have nothing to offer him but problems.

Jim targeted me as his top client and he succeeded in all areas. I gladly consider a trip to Costco as a fun and rewarding adventure, where I know I will get excellent quality at excellent prices. And yes, I do look for the treasures he intersperses throughout the store. I drive by one of the largest and most profitable Wal-Marts in the chain to get to my Costco. Thanks Jim for doing it your way to target me.

I worked for Costco in DE during High School and I have to say that Costco is AWESOME! They really do take care of their customers.

@AY: When Sinegal retires/dies, Costco is screwed.

Why? Costco’s executives and supervisory staff all believe (well, they should believe) in the concepts started by Jim Senegal. When Sam Walton died, Walmart started having trouble because of the Walton siblings; well, Costco isn’t Walmart.

Darrel

on 16 Jul 07

I’m still waiting for CostCo to adopt the Home-Depot/Lowes/Menards strategy where they open across the street from each other.